Azurix wins claim against Argentina, recoups only part of sunk costs
By Luke Eric Peterson
Investment Treaty News (ITN)
July 26, 2006
Published by the International Institute for Sustainable Development
http://www.iisd.org/investment/itn
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Editor’s Note:
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ITN has obtained a copy of the hitherto unpublished arbitral award rendered on July 14th by an international arbitration tribunal in a dispute between the US-based water services company Azurix Corp. and Argentina.
A copy of the award has been posted on-line in the ITN documents centre so that interested readers can obtain a copy.
(See: http://www.iisd.org/investment/itn/documents.asp)
Articles 1 and 2 below discuss some of the award’s key findings.
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Contents at a glance:
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Arbitration Watch
1. Azurix wins claim against Argentina, recoups a portion of its sunk costs
2. Analysis: tribunal finds several treaty breaches in Argentine treatment of water firm
3. British mining company serves notice of arbitration on Kyrgyzstan as dispute heats up
4. Chevron warns Ecuador on BIT claim as contract and environmental disputes persist
5. Mexico prevails in NAFTA Chapter 11 arbitration over financial services
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Arbitration Watch:
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The US-based water services firm Azurix has won a $165 Million (US) award against the Argentine Republic for breach of Argentina’s obligations under the US-Argentina bilateral investment treaty (BIT). Azurix had sought some $600 Million in compensation, for losses related to an ill-fated water and sewage concession in the Argentine Province of Buenos Aires.
In 1999, Azurix paid $438 Million (US) in an auction for the exclusive right to run the concession for a 30 year period.
Virtually from the take-over of the concession by Azurix’s local subsidiary Azurix Buenos Aires (ABA) in July of 1999, the US firm complained that the Argentine Province was letting political calculations interfere with the tariffs to be charged to water customers.
Controversy erupted in April of 2000 when an algae outbreak led provincial health authorities to warn customers that they should boil their tap water. Azurix alleged that provincial authorities bore responsibility for failing to complete work on equipment and systems which were critical to algae removal. The company further accused the government of inciting public panic and encouraging consumers to refuse to pay their water bills following the incident.
Ultimately, the tribunal presiding over the BIT dispute held that the province had shown “a total disregard for their own contribution to the algae crisis and a readiness to blame the Concessionaire for situations that were caused by years of disinvestment and to use the incident politically ….” The tribunal added that the provincial authorities bore a responsibility to protect the public health, but in this instance they had “contributed to the crisis rather than assisted (sic) in solving it.”
The ICSID tribunal reviewed a multitude of allegations by Azurix, and in a number of instances sided with the company in finding that the province was responsible for various failings - some of which were deemed to be mere contractual non-performance, while others verged into sovereign acts of a political nature which might trigger liability under the US-Argentina treaty.
In some crucial respects, however, the tribunal rejected claims put forward by Azurix. Most notable was the company’s assertion that the amount bid for the concession (the so-called canon payment of $438 Million) was to be taken into account for purposes of periodic tariff increases across the life of the concession.
Argentina responded that the investor was guilty of opportunistic behaviour - bidding an exaggerated price for the concession and hoping to recoup that investment through the mere renegotiation of tariffs. Argentina argued that such tactics would remove all element of risk from the investment.
After reviewing the underlying documents and agreements, the tribunal ruled that the so-called canon payment could not be considered as if it were to be recoverable through periodic tariff increases. Rather, it fell to the investor to make the appropriate calculation as to the earnings stream which could be generated by the concession, and to bid for that concession accordingly.
This finding would prove to be of significance when the tribunal turned to quantify the compensation owed to Azurix, after finding Argentina in breach of its treaty obligations.
According to the award, the tribunal held Argentina liable for not providing “fair and equitable treatment” and “full protection and security” to the investment as required under the US-Argentina treaty. Furthermore, the tribunal held Argentina liable for subjecting Azurix to “arbitrary measures” contrary to the BIT.
However, the tribunal held that Argentina had not breached the expropriation provisions of the BIT, nor Article II(7) of the treaty which requires that each party make public all laws, regulations, administrative practices and procedures, and adjudicatory decisions that pertain to or affect investments.” Finally, the tribunal rejected a claim that Argentina had breached a provision of the treaty which dictates that “Each party shall observe any obligation it may have entered into with regard to investments.”
Fuller discussion of some of the key legal findings can be found in the subsequent story below. The tribunal which arbitrated over the ICSID claim consisted of Mr. Andres Rigo Sureda, Mr. Marc Lalonde, and Mr. Daniel Martins. Mr. Lalonde, a former Canadian politician, was a member of a separate high-profile ICSID tribunal, which in 2005, held Argentina liable for breach of its treaty obligations owed to the US-based CMS Gas Transmission Company in relation to a claim arising out of Argentina’s financial crisis. That award is currently being challenged by Argentina, following an annulment application filed with the Washington-based ICSID.
Mr. Lalonde is a popular party-appointed arbitrator in a number of other ICSID cases, including two further cases against Argentina, and one each against the Democratic Republic of Congo, Lithuania, and Kazakhstan.
While Mr. Martins is not currently involved as arbitrator in other pending ICSID claims, Mr. Rigo is President of the tribunal in an ICSID arbitration between Siemens A.G. and the Argentine Republic. The Siemens case is one of numerous disputes arising out of the Argentine financial crisis, and an award is expected in that case imminently.
Analysis: tribunal finds several treaty breaches in Argentine treatment of water firm
By Luke Eric Peterson
While there can be no definitive figures on the prevalence of investment treaty-based arbitrations, a minimum of ten such arbitrations are known to have arisen in relation to disputed water privatizations in the developing world.. The July 14th award in the case of Azurix v. Argentina marks the first time that a tribunal has passed judgment on the merits of any of these water services claims.
In contrast with a number of the disputes currently pending against Argentina, the Azurix dispute largely pre-dated the financial crisis which beset Argentina. As such, the basis of the dispute was rooted not in a series of emergency measures taken by Argentina, but rather a host of measures and actions taken by provincial water regulators in the province of Buenos Aires.
Having found that Argentine authorities were guilty of various failings with respect to their compliance with their obligations to Azurix Buenos Aires, the ICSID arbitral tribunal was tasked with determining to what extent the Argentine Republic was liable for breach of its international investment protection treaty commitments.
The claimant alleged that Argentina committed multiple breaches of the US-Argentine treaty, including that the investor had been subjected to expropriation without compensation and that they were denied fair and equitable treatment and full protection and security.
In considering Azurix’s expropriation claim, the tribunal was called on to decide to what extent the “purpose” underlying government measures was relevant to a determination as to whether such measures constituted expropriation under the US-Argentina treaty.
Azurix had argued for an approach which focused solely upon the effect, or degree of impact, suffered by the investor, whereas Argentina had insisted that the intentions of the state – for e.g. whether measures were taken in pursuit of important public interests - were critical to drawing the line between so-called “legitimate regulation and confiscatory regulation”.
The presiding tribunal acknowledged that tribunals in other investment disputes have adopted divergent approaches to this question, and it ultimately concluded that “the issue is not so much whether the measure concerned is legitimate and serves a public purpose, but whether it is a measure that, being legitimate and serving a public purpose, should give rise to a compensation claim.”
In particular, the tribunal expressed support for the approach adopted by an earlier ICSID tribunal in the case of Tecmed v. Mexico, where the presiding tribunal had borrowed a proportionality analysis from the jurisprudence of the European Court of Human Rights. On such an approach, a tribunal should assess the legitimacy of the aim being pursued, the degree of impact upon the foreign investor, and whether the means chosen were proportionate to the aim being pursued. Moreover, foreigners – as non-nationals not participant in domestic political processes – might be entitled to bear less of a burden than nationals of the host state when it came to the impact of government measures.
Having articulated this approach, the tribunal in the Azurix arbitration, would go on to find that the US water-services company had not suffered an expropriation of its contractual rights. Ultimately, the tribunal was not convinced that the degree of impact suffered by the claimant rose to the level where there was an expropriation:
“Azurix did not lose the attributes of ownership, at all times continued to control ABA and its ownership of 90% of the shares was unaffected. No doubt the management of ABA was affected by the Province’s actions, but not sufficiently for the Tribunal to find that Azurix’s investment was expropriated.”
Having found that the impact of the provincial actions did not rise to the level where they amounted to an expropriation, the tribunal gave no indication as to how it might have assessed the intentions underlaying the impugned government actions.
The tribunal was convinced, however, that Argentina had denied the claimants “fair and equitable treatment” as required under the treaty.
The tribunal offered its view of past cases which had interpreted the meaning of this legal obligation, and ultimately sided with the majority of previous tribunals who have held that explicit “bad faith” or “malicious intention” need not be demonstrated in order to hold that states have treated foreign investors “unfairly” or “inequitably”.
Furthermore, the tribunal reasoned that what constituted “unfair” and “inequitable” treatment should be determined in light of the legitimate expectations which the investor had when making its investment.
Turning to evaluate Argentina’s liability in this light, the tribunal identified various instances where authorities acted unreasonably, engaged in political meddling or politicized discussions related to the tariff regime, thus leading to breach of the “fair and equitable treatment” obligation owed to Azurix.
The tribunal also entertained an argument by the claimants that they had suffered breaches of Article II (2) (c) of the treaty, which the claimants had construed as a so-called umbrella clause (i.e. a provision capable of transforming basic contractual breaches into breaches of international law).
However, the tribunal dispensed with this argument in summary fashion. The tribunal noted that the contracts invoked by Azurix were not entered into by the parties to the treaty arbitration - namely Azurix Corp and the Argentine Republic - but rather were between Azurix subsidiaries and the Province of Buenos Aires. Accordingly, the tribunal reasoned:
“While Azurix may submit a claim under the BIT for breaches by Argentina, there is no undertaking to be honored by Argentina to Azurix other than the obligations under the BIT. Even if for argument’s sake, it would be possible under Article II(2)(c) to hold
Argentina responsible for the alleged breaches of the Concession Agreement by the Province, it was ABA and not Azurix which was party to this agreement.”
On another of Azurix’s treaty claims, the tribunal did find that Argentina was liable for having subjected the US firm to “arbitrary measures” - defined, by the tribunal, as willful disregard for the law. The tribunal cited a number of actions of the Buenos Aires authorities which were deemed arbitrary:
“The Tribunal finds that the actions of the provincial authorities calling for non-payment of bills even before regulatory authority had made a decision, threatening the members of ORAB (the Argentine water regulator) because it had allowed ABA to resume billing … (and) restraining ABA from collecting payment from its customers for services rendered before March 15, 2002 … are arbitrary actions without base on the Law or the Concession Agreement and impaired the operation of Azurix’s investment.”
Finally, in a significant ruling, the tribunal held that the earlier-noted breaches of the “fair and equitable treatment” standard, also served to violate the obligation to provide “full protection and security”. The tribunal acknowledged that some recent US investment agreements have expressly limited the latter concept to the baseline level of physical police protection required under customary international law. However, the tribunal was of the view that the concept as written into the 1991 US-Argentina BIT could be construed as having not merely a physical protective component, but also a further requirement that host governments ensure the “stability afforded by a secure investment environment”.
In terms of compensation claimed, Azurix had sought $449 Million (US) which reflected its estimate of the costs for acquiring the concession, the bulk of which went to the so-called Canon payment. Azurix also requested $102.4 Million for its additional capital investments, $15 Million for consequential costs including corporate and legal costs, and approximately $120 Million in outstanding accounts receivables allegedly owed by former customers of Azurix Buenos Aires.
The tribunal determined that Azurix was entitled to “fair market value” compensation for the breaches of the BIT, to be calculated as the date (March 15, 2002) upon which the tribunal held the concession to have been formally terminated.
However, the tribunal rebuked Azurix for the amount it had laid out to obtain the Buenos Aires concession:
“First of all, in the Tribunal’s view, no well-informed investor, in March 2002, would have paid for the Concession the price (and more particularly, the Canon) paid by Azurix in mid-1999, irrespective of the actions taken by the Province and of the economic situation at that time.”
The tribunal also reverted to its earlier finding that the whopping $438 Million Canon payment could not be considered as part of the recoverable asset base when it came to setting periodic tariff adjustments. In the Tribunal’s estimation, Azurix had wildly overbid for the concession, and the Tribunal was left to determine “what an independent and well-informed third party would be willing to pay for the Concession in March of 2002, in a context where the Province would have honored its obligations.”
Ultimately, the Tribunal was of the view that “no more than a fraction of the Canon could realistically have been recuperated under the existing Concession Agreement.” Accordingly, the Tribunal fixed the value of the Canon at $60 Million (US).
Added to this was compensation in the amount of 105 Million (US) which reflected the Tribunal’s accounting of Azurix’s additional capital investments in the concession.
As for the accounts receivable, the Tribunal ruled that this amount was owed to Azurix Buenos Aires, and not the Azurix parent corporation.
Azurix had claimed a further $7.9 Million (US) for legal work related to the arbitration proceeding, however the Tribunal bade each party to cover its own legal costs, while ordering Argentina to bear the costs of the arbitral proceeding (including arbitrator’s fees and ICSID fees)
Finally, the tribunal absolved Azurix of any liability with respect to the non-execution of the investment plan which was to have been implemented during the first five years of the concession, and which contemplated several hundred million dollars in new investments.
At press time there was no word from Argentina as to whether it planned to pay the award or seek to annul it through application to the Washington-based ICSID.
The Azurix ruling marks the second such award to be rendered in favor of a foreign investor against Argentina in as many years. Previously, Argentine authorities have been robust in their criticism of the bevy of investment treaty lawsuits mounted in the aftermath of that country’s financial crisis. Officials have insisted that they would challenge any awards rendered against Argentina, and have questioned the very legitimacy of the ICSID process to resolve such disputes.
It remains less clear if the Argentine government will adopt an equally hard-line posture in relation to a dispute which was not forged in the fire of that financial crisis.
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